This Startup Wants to Change the Way Credit Scores Are Calculated

The current system of determining a person's creditworthiness is "inadequate and insufficient" and is costing both consumers and creditors, said Zaydoon Munir, founder and CEO of RevolutionCredit.

In response, the 2-year-old startup is using online finance crash courses to help lenders better determine a person's creditworthiness.

"Traditional credit scores use one type of data, transactional data, and it is backward looking. They are reporting on something that has already happened. It always assumes the future will look like the past and humans don't operate in a straight line," Munir, a former Experian exec, said.

RevolutionCredit, whose backers include the former CEO of FICO and the founders of FreeCreditReport.com, is using its financial testing software to capture people's behavioral data. That information is harnessed to create a more accurate credit profile for the consumer.

The behavioral data the software captures is what Munir describes as "a consumer's intent and their aptitude."

It works like this: A person with a 650 credit score comes to a bank's website and applies for a credit card. They are then made two offers. The first is a $5,000 line of credit with a 12 percent rate or a $7,000 line of credit with a 12 percent rate. To qualify for the second offer, however, the applicant must first complete an online financial course.

A person who takes the course and completes it shows intent, which is positive behavioral data that can be used to help determine their eligibility for more credit. How a person scores on the test is considered their aptitude and is also a factor in helping them get more credit.

Some clients also use the testing software to give customers the option to waive fees or get better rates, Munir said. RevolutionCredit currently has six paying clients, though Munir would not share who the clients are.

These applications aren't just beneficial to the customer, it also aids the creditor because it helps them tap a new market of people who may be unfairly marginalized because of a blemish on their credit report, Munir said.

"There's this broad middle of consumers and they all look different. They don't all arrive at the 650 credit score for the same reason," Munir said.

"If you have 1,000 people with a credit score of 650, we can show the creditor the 20 percent that will perform as good, if not better, than the customers with a credit score of 700," Munir said. "So now, if I'm a lender, I can now approve more people to the same or lower risk tolerance that I have set up for myself."

Consumers who have access to general educational information about credit, as well as information about their personal credit, perform better than people who have no credit education, said John Ulzheimer, president of consumer education at CreditSesame.com, in an email.

"As far as whether or not banks will consider their educational model ... they'll consider anything that brings them more high-quality, low-risk borrowers," he said.

But whether or not RevolutionCredit can do that to the degree that a megabank will take notice remains to be seen, Ulzheimer said.

"I don't think this is anything that will disrupt the current credit scoring system. If anything it could augment the value of scoring systems like FICO and VantageScore but to suggest this will somehow replace it or cause concern, I don't see it happening," he said.

"The scoring systems are far too ingrained across all consumer credit decision points for something like this to be problematic to it."

But RevolutionCredit is not trying to completely replace credit scores, but instead trying to improve the way people are currently rated.

"I don't look at it as a zero sum game," Munir said. "I want to add transparency to a system that is otherwise opaque from a customer standpoint. The consumer has no idea what you are using to judge them and to basically hold against them."

While it could be argued that RevolutionCredit may lead to riskier borrowers entering the system, it doesn't necessarily translate to larger systemic risk, said Ben Rogers, research director of Filene Research Institute, a credit union and consumer finance think tank.

"Risk functionally defined is people with low credit scores or no credit scores. So in the most straightforward sense, this is exactly what they are trying to do, bring riskier borrowers access to capital," Rogers said. "But the larger question is does this lead to systemic risk? Would we see shaky underwriting and a lot of risk? I don't think so. For the most part this is designed to serve small-scale consumer credit."

Services like RevolutionCredit will probably work best for smaller loans like credit cards or auto loans, where the risk of default is real but the money at stake is much smaller than a mortgage or business loan, Rogers said. And it could be especially useful in getting millennials more credit, he added.

"Demand from borrowers, especially millennials, is surging for on-demand services of every kind. This is especially true for credit applications, where new borrowers don't know all the rules of the road and don't want to seem clueless. It's less embarrassing to learn from a screen than from a person, even a nice one," Rogers said.

"People's wallets are most often the most sensitive part of their anatomy. If they don't have to go in and look at somebody face to face, well, I think there is a lot to be said about that. Will it change the world? The jury is still out, but these on-demand services have a lot of potential."

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